Beer Issues: What's Up With the Three-Tier System?

The three-tier system: it sounds a bit like a tactic employed by some kind of pyramid schemer, and to some folks in the beer industry, it's no better. Others see it as a necessary evil and still others embrace it as a boon. Good or bad, the three-tier system almost definitely played a role in getting that six-pack to your fridge.

This is how we get our booze in America—it's the process through which most alcoholic drinks are taxed and sold in the United States. It ultimately boils down to this: with some exceptions, all beer, wine, and spirits must be sold by their supplier (say, a brewery or winery or an importer of booze) to a wholesaler (AKA a distributor), who sells those beverages to a retailer (like a bar, restaurant, or bottle shop), who then sells them to you (hi there). Those are the namesake three tiers to keep track of: (1) supplier, (2) wholesaler, (3) retailer.

Hatred for the system within the beer world seems justified, at least on the surface: the three-tier setup seems contrary to the typical flow of capitalism and it necessitates middlemen that sometimes just make beer less fresh and more expensive. But despite these frustrations, some people credit the three tier system for the current boom in American craft beer.

It all started in 1933. When Prohibition was repealed, power was given to the states to regulate the sale of alcohol within their boundaries. The three-tier system offered trifold taxation capabilities and promised to help prevent the establishment of monopolies.

You see, if breweries are allowed to own their distribution and retail outlets, it's easy for the biggest companies to wield their financial clout to stifle competition. To see what that can look like, open your history books. The beer industry in mid-20th century Britain became dominated by "tied houses"—retail establishments owned or controlled by breweries. These pubs had a tendency to serve only the beers associated with their controlling brewery (shocking, right?). Without places to sell their beer, the little guy struggled, and much of the British beer industry fell under the control of just six breweries.

So, there's something to the idea of encouraging competition with a three-tier system. But because every state in the U.S. gets to make their own rules, each has its own quirks, exemptions, and variations.

For example, some states allow breweries to hold ownership in two of the three tiers (like owning both the brewery and a distributor or a retail shop), while most restrict breweries to beer production. Brewpubs (retail entities that make their own beer, thus representing two tiers simultaneously) are the most common exemption, but many states also allow breweries to self-distribute if they produce less than a certain volume of beer. Other states choose to run the distribution and/or retail sale of alcohol themselves, maintaining a government-run monopoly.

On some level, most of these exemptions make practical sense, while others reveal the system's weaknesses. In Tasting Beer, for example, Randy Mosher describes an exemption to Texas's three-tier system for "marine mammal attractions," at which point it should be mentioned that Anheuser-Busch InBev owned SeaWorld until 2009.

The three tier system has both costs and benefits, and its usefulness will be debated for as long as it is in place. Here's a breakdown of some of the arguments on both sides of the debate:

Pros:

This is the big one: the three-tier system encourages competition by preventing tied houses and empowering independent distributorships. Why does this matter? Imagine if a few big brewing companies (we won't name names) were able to just buy up bars and serve only their own beers, or buy up all the distributorships in town and refuse to sell their competitor's product. Hell, imagine if they were allowed to give away keg refrigerators to bars in exchange for business. It could've been ugly. The three-tier system prevents these actions, fostering an environment that allows for the growth of smaller beer brands (like those microbrews that the kids love these days).

By preventing tied houses, consumers enjoy a wide variety of beer options in their bars, restaurants, and bottle shops.

Cons:

New breweries may have a difficult time landing a distribution contract without first establishing their place in the market. In states where self-distribution is not allowed, this leads to a bit of a Catch-22.

Wholesalers are another hand that needs to get paid. This can result in higher prices to the end consumer and less profit for the producers.

Beer is generally best consumed fresh. Requiring that beer be sold through a wholesaler ensures that more time will pass between brewery and glass.

Some decision-making in retail establishments is dictated by "distributor politics." Retailers making decisions based on their relationships with distributors can skew the free market sale of beer.

This one is a bit complicated. Distributors generally have an exclusivity agreement with a brewery, so only one distributor is allowed to sell that brewery's beer in each region. But it goes further than that: in most states, there are rules called franchise laws that ensure that breweries usually cannot easily end distribution contracts. These laws were instituted to keep the biggest breweries from taking advantage of the fact that a threat to take their business elsewhere could get them whatever they want from their wholesalers. That's a purpose franchise laws serve well, but there's a dark side, too. Because breweries cannot easily break their contracts with distributors, they can be stuck with poorly-performing or negligent companies that are the only ones with the right to sell the brewery's beer.

What are your thoughts on the three-tier system? Would we be better off without it? Or do you see some benefits? Could it be that this system was essential just after Prohibition, but isn't necessary now that a more diverse beer industry has been established?

Mike Reis is a Certified Cicerone working as Operations Manager for California-based distributor Lime Ventures. Previously, he co-managed the beer program at San Francisco's Abbot's Cellar and The Monk's Kettle. Follow him on Twitter @beerspeaks or find him behind a pint near you.

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